The Why Axis

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We Minyans are a curious lot. That's a good thing, by the way. I often get "why" questions from my fellow Minyans, as in: "Why did gold futures break down?" or "Why the selloff in Biotechs?" These are good questions and, as I've written in the past, applying fundamental discipline to your technical discipline is important. But there is also a limit to what is knowable in the market. Understanding the limitations of your knowledge is vital to success as a trader or investor.

Looking back at some of the collapses over the past few years, (Enron, WorldCom) as well as some of the successes (gold, certain raw materials), the difficult truth is that the answers to "why" typically only become apparent after the fact.

Is there a reason for everything that takes place in the market? Certainly. Are those reasons knowable in advance? Rarely. One of the most fascinating aspects of market dynamics is that investor A may be able to profit from his insight into the benefits of XYZ Corp's reengineered supply chain management software, while investor B may profit from his analysis of the changing supply/demand relationship that shows up in the stock chart of XYZ. After the fact, investor A may be able to declare "yes, my homework told me the company's shift to a better software system would ultimately lead to a more profitable company so I took advantage of that." Investor B, meanwhile, may simply offer that "the chart was shaping up." Who was right? They both were.

Some like to focus on the contrasts between Investor A and Investor B. All I see are similarities though. Both investors began with a thesis. Investor A's thesis was that a reengineered software platform would lead to profit growth that is currently hidden, which in turn would attract investors once the hidden growth became apparent. Investor B's thesis was that the chart was showing a shift in the supply/demand relationship and such shifts generally lead to a higher stock price. Both investors put their money to work based on their individual theses. And presumably both chose a timeframe, or a particular price point, where they would be able to declare their thesis invalid or successful. How are they different? Structurally, they are not. They are absolutely identical. The structure is: thesis, action points, commitment of capital, timeframe.

What are the limits of our knowledge? It is an important question to consider. One thing I am certain of is that no matter how well I feel like I know a stock, there will always be someone out there who knows it better than I do. The reality of this admittedly facile insight is that there are two things I must try to be conscious of when making investment or trading decisions: one, be aware of my decision-making fallibility, and two, follow my discipline to prevent my inevitable fallibility from draining all of my capital.

I love the "why" question (I have a philosophy degree, remember) and we spend a lot of time batting it around here in the office. But I like it best at cocktail parties where the consequences of being wrong are largely limited to a shot of Maker's Mark thrown in my face. Also, I have found that focusing too intently on the "why" disrupts my discipline and can prevent me from seeing what the footprints left on the charts are telling me. In almost all cases, those footprints are telling me that someone, somewhere, knows more than I do.

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